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September 29, 2010

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Latest Posts from Economist's View


"The Easy and Legal Way to Stop Currency Manipulation"

Posted: 29 Sep 2010 01:17 AM PDT

Daniel Gros:

A reciprocity requirement: The easy and legal way to stop currency manipulation, by Daniel Gros, Vox EU: The endless discussions about global imbalances, and China's supposedly self-serving exchange-rate policy, have for a long time, resembled discussions about the weather; everybody talked about it, but nobody did anything. This is now changing. ...
The US political system has become so frustrated by this situation that Congress is now seriously considering whether to label the country a "currency manipulator" and impose trade sanctions which would be illegal under WTO rules and threaten to throw the global trading system into turmoil.
But there is another way. The US (and Japan) could easily prevent the Chinese Central Bank from continuing its intervention policy without breaking any international commitment. The US and Japan only need to invoke the principle of reciprocity and declare that they will limit sales of their public debt henceforth to only include official institutions from countries in which they themselves are allowed to buy and hold public debt. Instead of the "moral suasion", tried in vain by the Japanese, the Chinese authorities would just be told that they can buy more US T-bills Japanese bonds only if they allow foreigners to buy domestic Chinese debt.
Imposing such a "reciprocity" requirement on capital flows would be perfectly legal..., there are no legal constraints on the impositions of capital controls.
This "reciprocity" measure would of course be equivalent to a very specific form of controls on capital inflows. Capital controls are always somewhat leaky, but not in this case because the Chinese Central Bank would find it difficult to hide its huge investments going through western financial institutions. No reputable financial institution would dare to become a hidden intermediary for the Chinese given that no institution bidding for hundreds of billions of T-Bills would take the risk of secretly fronting the Chinese government...
As a practical matter the introduction of the reciprocity requirement should provide a grand fathering of the existing stocks of Chinese official assets abroad (already above $2,500 billion). However, the Central Bank of China would not be able to continue its interventionist policy – and that is what counts for foreign exchange markets.
The immediate objection is, "What if the Chinese react emotionally and dump their holdings of T-Bills and US agency debt on the market? Would that not disrupt the US government debt market?" This "dumping" is not as simple as it sounds. What assets would the Chinese Central Bank buy when it sells T-Bills? There are not many choices if the Chinese Central Bank wants to dispose of thousands of billions of dollars. Either it holds cash in the form of bank deposits (this would mean a massive refinancing of the US banking system) or it buys other US assets (which would mean a refinancing of the US private sector). Moreover, the reciprocity requirement could be extended to private debt instruments as well. But this is probably not necessary as the Chinese Central Bank is unlikely to invest hundreds of billions of dollars (or euro) in private assets. Buying euro assets would of course constitute an alternative, but this does not appear too attractive at present, and would be prevented by the Europeans adopting the same reciprocity requirement.
The US might hesitate to impose a reciprocity requirement for sales of its public debt because (in contrast to Japan) it needs foreign financing for its public sector deficit. But this also constitutes the litmus test for the sincerity of the US position which cannot have it both ways, i.e. Chinese financing of its external deficit and an end to currency intervention. The choice is now up to the US, it can easily stop Chinese interventions without violating any international commitment if it is willing to rely on domestic savings to finance its own fiscal deficits.

I don't think most members of Congress would be willing to take the large risk they would attach to imposing reciprocity. But how large are the risks? Paul Krugman:

given the fact that we're in a liquidity trap, a decision by China to buy fewer of our bonds would actually be doing us a favor — it would weaken the dollar, and help our exports.

Here's the latest: 

House Is Likely to Pressure China to Raise Renminbi: The House is expected to give the Obama administration another tool in its diplomatic pouch to pressure China to let its currency rise in value, reflecting growing concern around the country over the loss of manufacturing jobs, persistently high unemployment and a rising trade deficit.
In what is likely to be one of Congress's last significant measures before the election, the House will vote Wednesday on a symbolic but not insignificant measure threatening China with punitive tariffs on its imports to the United States. ...
But it is unclear whether the legislation, which faces cloudy prospects in the Senate, will succeed this time in prodding a China that has become more self-confident on the world stage. ...

 

"The legislation will strengthen the administration's hand in its negotiations with China, but also risks provoking a strong backlash," said Eswar S. Prasad ... of ... Cornell and a former head of the International Monetary Fund's China division. "Ultimately its short-term effect is likely to be more symbolic than substantive." ...

Professor Prasad ... warned that if the Congressional proposal went forward, China could retaliate by limiting American imports or denying American manufacturers and financial institutions "the coveted prize of access to rapidly growing Chinese markets."

A policy that is "more symbolic than substantive" is my expectation as well.

"Can business afford Jim DeMint?"

Posted: 29 Sep 2010 01:08 AM PDT

Steven Pearlstein says the business community is "about to create a political monster":

Can business afford Jim DeMint?, by Steven Pearlstein, Commentary, Washington Post: For all you in the business community who are rooting for a Republican victory in the November elections, a bit of unsolicited advice: Be careful what you wish for.
You're probably thinking that with Republicans in control of one or both houses of Congress, business will be back on top again, setting the agenda... In reality, what you'll get is political paralysis for the next two years, and quite possibly longer than that.
Just ask Sen. Jim DeMint ... the new Republican kingpin and enforcer on Capitol Hill. DeMint told Bloomberg Businessweek last week that his goal for the next Senate is "complete gridlock." ... For DeMint, this is war. The only acceptable outcome is total victory...
I know what you're thinking. You're thinking that, once the heat of the election season has passed, cooler heads will prevail... Don't kid yourselves. You're about to create a political monster that you can't control...
It's convenient to blame the media, or cable news or the blogosphere for this state of political polarization. To that list of culprits I'd add you - business leaders who, in order to score modest wins in legislative or regulatory battles, make common cause with those who trample on the truth, poison the political conversation, demonize opponents and undermine respect and support for government.
Criticize President Obama - that's easy, guys. But is there anyone there at the Business Roundtable with the courage to criticize Jim DeMint?

With respect to gridlock -- I'm more worried about Obama and other Democrats trying to overcome gridlock and, in the name of centrism and bipartisanship, giving too much away.

links for 2010-09-28

Posted: 28 Sep 2010 11:02 PM PDT

"Congress is Lame"

Posted: 28 Sep 2010 06:48 PM PDT

Ryan Avent says the institutional structure of Congress inhibits good policy:

Built to break, by Ryan Avent: ...Congress is lame. ... Why? ... Why is it so difficult to pass decent policy?

South Carolina Sen. Jim DeMint warned Monday evening that he would block all legislation that has not been cleared by his office in the final days of the pre-election session. 

Bret Bernhardt, DeMint's chief of staff, said in an e-mail to GOP aides that his boss would place a hold on all legislation that has not been cleared by both parties by the end of the day Tuesday. 

Any senator can place a hold to block legislation - and overcoming that would require the Senate to take time-consuming steps to invoke cloture, which would require 60 votes.

This is a stupid rule. Why would the Senate adopt it? Well, as with most of today's procedural obstacles, it was put in place for a sensible reason—to pause the passage of legislation while senators from states directly affected had time to review the bill—but has come to be abused for partisan tactical purposes. The Senate is full of rules like this that can be used to bring business to a complete halt. Their use has, at various points in the past, gone from being frowned upon to being acceptable (or at least common). The filibuster falls into this category. Modern Americans may find it hard to believe that not so long ago contentious pieces of legislation passed the Senate with a simple majority vote. No longer.

Now, the story of why politics is so disappointing in America right now is more obviously more complicated than the increase in use of the Senate's procedural obstructions. But this is an important story. In economics, we understand that institutions—statutory and and cultural—have a powerful impact on economic outcomes. Incentive structures in institutions determine whether it's more profitable to invest or rent-seek. This in turn influences the allocation of capital, physical and human, which determines growth rates. And expected growth rates feed back into the decision of whether and where to invest...or rent-seek.

As observers of the political system, economists should take the incentives built into institutions seriously. Supermajoritarian rules limit accountability by driving a wedge between who is responsible for policy outcomes and who is held responsible. If opposition legislators have the ability to block bills, the failure of which will be laid on the ruling party, then there is no incentive for the opposition to bargain and compromise. If the legislature is sclerotic, then Congress will become less appealing to people interested in passing good policies and more appealing to those looking for a platform from which to demagogue. The result is an uptick in demagoguery, which makes Congress still less appealing to those interested in conducting actual business. ...

[P]eople choose whether to seek office based on the things they're likely to accomplish there, and they behave once in office according to the incentives they face. If government consistently disappoints, it's not the fault of the men and women in Congress. It's the institution itself. And the conversation should become less about which party should be in charge and more about which rules need to be reformed.

But why is it that "If opposition legislators ... block bills, the failure ... will be laid on the ruling party..."? Is this due to problems with the institutional structure of Congress, or with the media reporting on the issues? Is it due to a better GOP noise machine? Or is it due to something else entirely such as the tactical decisions made by Democrats. Democrats seem unable to do the simplest things the GOP does so well such as giving bills catchy names that imply a vote against the legislation is a vote against America, let alone pursue more complicated coordinated strategies. If the roles were reversed and Democrats were obstructing policies the GOP was trying to pass, I'm not so sure it would be the GOP that would be blamed.

Update: Via email:

Hey Mark -
Saw your post. FWIW political scientists think the reason the ruling party is blamed is that the public doesn't follow the mechanics of Congress lately and tends to hold the president's party accountable for the state of the country in midterms. Process-based explanations (they didn't let us pass our agenda) don't tend to work, nor do catchy bill names or spin tactics etc. In some ways, this is more encouraging than what pessimists say about democracy -- the public really does respond to results (very broadly defined) and isn't as easily manipulated as people think (at least in domestic policy) -- but there are lots of subtleties that are lost. With that said, of course a big question going forward is how to make our system work in a partisan era where the opposition party is empowered by the filibuster.

Part of another email:

..If Republican public relations pins the blame on the Democrats you've bought their spin with your criticism, "Democrats seem unable to do the simplest things the GOP does so well…"

Shadow Banks Pose Major Threat to Financial Stability

Posted: 28 Sep 2010 09:00 AM PDT

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